STRATTEC Security Corporation — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended December 30, 2018, compared with the quarter and six months ended December 31, 2017. The interim financial statements are unaudited. STRATTEC designs and manufactures automotive access-control products, including locks, keys, latches, door handles, ignition components and power-access systems, primarily for North American automotive customers. The company also participates in the VAST Automotive Group and consolidates majority-owned Mexican and U.S. joint ventures.
Key Financial Metrics
| Metric | Three months ended Dec. 30, 2018 | Three months ended Dec. 31, 2017 | Six months ended Dec. 30, 2018 | Six months ended Dec. 31, 2017 |
|---|---|---|---|---|
| Net sales | $112.9 million | $103.2 million | $230.1 million | $205.6 million |
| Gross profit | $12.7 million | $12.6 million | $27.9 million | $26.1 million |
| Gross margin | 11.3% | 12.3% | 12.1% | 12.7% |
| Income from operations | $2.3 million | $2.5 million | $6.4 million | $5.9 million |
| Net income attributable to STRATTEC | $(22.2) million | $2.9 million | $(18.7) million | $5.3 million |
| Diluted EPS | $(5.96) | $0.78 | $(5.03) | $1.44 |
| Operating cash flow | Not separately provided | Not separately provided | $19.7 million | $1.0 million |
| Capital expenditures | Not separately provided | Not separately provided | $9.4 million | $14.3 million |
Cash and cash equivalents were $11.4 million at December 30, 2018, compared with $8.1 million at July 1, 2018. Total borrowings under the secured credit facilities were $46.0 million, down from $51.0 million at July 1, 2018. Total shareholders’ equity was $183.8 million, compared with $183.2 million at July 1, 2018. The company declared dividends of $0.14 per share in each quarter.
Material Changes Versus the Prior Comparable Period
- Sales increased 9.4% in the quarter and 11.9% year to date, driven primarily by higher product content and production volumes for Fiat Chrysler and General Motors, increased Tier 1 sales, and new programs with commercial and other OEM customers.
- Negotiated customer price reductions reduced sales by approximately $0.9 million in both the quarter and six-month period.
- Gross margin declined because of customer price reductions, higher launch and expediting costs, and lower margins on competitive electrical, latch and lockset programs. Favorable Mexican peso exchange rates and improved fixed-cost absorption partially offset these pressures.
- Quarterly operating income declined modestly to $2.3 million from $2.5 million; six-month operating income increased to $6.4 million from $5.9 million.
- Results included a $32.4 million non-cash pretax pension termination settlement charge. The charge drove the reported net loss; management expects an additional approximately $8 million non-cash compensation charge when the pension plan is fully terminated.
- The pension charge generated a $7.9 million tax benefit. The expected annual effective tax rate declined to approximately 5.1% from approximately 18.5% in the prior-year period. The company completed its accounting for the Tax Cuts and Jobs Act and recorded a $0.4 million measurement-period tax benefit during the six months.
- Operating cash flow improved substantially, reflecting lower working-capital requirements, particularly lower receivables and customer tooling balances. Pension settlement activity was non-cash.
Liquidity, Debt and Capital Resources
- The company maintains a $40 million secured revolving STRATTEC facility and a $30 million secured ADAC-STRATTEC facility; both expire August 1, 2021. The ADAC-STRATTEC borrowing limit returns to $25 million effective July 1, 2019.
- Borrowings at December 30, 2018 were $21 million under the STRATTEC facility and $25 million under the ADAC-STRATTEC facility. The company was in compliance with all credit-facility covenants.
- Management expects approximately $15 million of fiscal 2019 capital expenditures for new programs and equipment upgrades.
- No shares were repurchased during the six months. Management anticipated modest or no repurchase activity for the remainder of fiscal 2019 to preserve cash.
- Approximately $2.5 million of the company’s $11.4 million cash balance was held in Mexico and was available for repatriation as needed.
Outlook, Risks and Unusual Items
Management expects North American light-vehicle production in calendar 2019 to remain flat or slightly below calendar 2018 levels. It expects consumer and OEM demand to continue favoring light trucks and utility vehicles if fuel prices remain stable or modestly higher. ADAC-STRATTEC expects annual sales to increase to approximately $110 million in fiscal 2019 following new awards and the completion of its Leon, Mexico facility.
- Key risks include automotive production and consumer demand, customer purchasing decisions, competitive pricing, product launches, material and labor costs, Mexican peso fluctuations, tariffs and other U.S. trade policies, warranty claims, product returns and customer recalls.
- The company uses Mexican peso forward contracts to reduce currency volatility; outstanding contracts had a $4.5 million notional amount and $54,000 fair value at December 30, 2018.
- The Milwaukee environmental reserve was $1.3 million. Monitoring continues, and active remediation may be required if natural attenuation does not satisfy regulatory closure requirements.
- Management does not expect current legal proceedings and claims to have a material adverse effect, and believes warranty reserves are adequate.
- SAL LLC’s biometric-lock business has been wound down, and management expects minimal to no additional funding in fiscal 2019. VAST’s Brazil operation may require approximately $0.3 million of additional partner funding, of which STRATTEC expects to contribute approximately $0.1 million.
- The company adopted new revenue-recognition guidance effective July 2, 2018; the primary impact was a $1.2 million balance-sheet reclassification with no retained-earnings adjustment. It also early adopted guidance permitting reclassification of $4.0 million of stranded tax effects from accumulated other comprehensive income to retained earnings.
Important Facts for Investors to Verify
- Whether the remaining approximately $8 million pension termination charge is recorded as expected and whether the plan termination proceeds without additional cash contributions.
- The sustainability of gross margins amid customer price reductions, competitive pricing and higher launch costs.
- North American vehicle production, particularly light-truck and utility-vehicle volumes, and customer concentration among Fiat Chrysler, General Motors and Ford.
- Availability under both secured credit facilities and compliance with the minimum-net-worth and fixed-charge-coverage covenants after the ADAC-STRATTEC limit reduction.
- Progress and profitability of the Leon, Mexico facility and the expected fiscal 2019 capital-expenditure program.
- Exposure to Mexican peso movements, tariffs, raw-material inflation, warranty claims and automotive customer production changes.